The Boring Wealth - stock selection framework
Estimated reading time - 4 minutes
Hello,
In this post, we’ll detail out our stock selection framework - or ‘What to buy’ part.
Before we begin -
Our approach to scanning a company is akin to that of a board member or a company executive—focusing on key financial metrics and strategic insights to make quick, informed decisions. We avoid the granular approach of an accountant who scrutinizes every minor detail, allowing us to keep a broader perspective on the company’s overall health and potential.
Our stock selection framework is divided into three main parts: Fundamental Analysis, Financial Analysis, and Timing/Technical Analysis. This structured approach helps identify high-quality stocks with strong fundamentals, healthy financials, and favorable technical indicators.
1. Fundamental Analysis
Company Overview
Understand what the company does, its business segments, and how it generates revenue.
Business Type
Determine if it is a stable, low-volatility business (e.g., utilities) or a high-growth but more unpredictable sector. Also if it’s a large company which is usually slow grower or a nimble fast-grower.
Is It a Boring Business?
Evaluate if the business operates in a stable and predictable industry with steady demand, such as consumer staples or utilities. Boring businesses are often resilient during economic downturns.
Management Track Record
Review management’s past performance in scaling the business and maintaining profitability during economic cycles.
Future Growth Potential
Analyze the company’s strategic initiatives, new product launches, market expansion plans, and ability to sustain growth.
Risks
Identify external and internal risks that could impede growth, such as regulatory challenges, competition, or supply chain disruptions.
Tailwinds
Assess alignment with broader economic trends, such as favorable government policies or rising consumer demand, that could boost performance.
Cyclical Nature
Determine if the company is affected by economic cycles and whether it is currently in a growth, peak, decline, or recovery phase.
Turnaround Potential
If the company is in distress or facing challenges, analyze recent management actions, cost-cutting measures, and restructuring efforts to gauge the likelihood of a successful turnaround.
2. Financial Analysis
Overview of financial health
Assess overall financial health of the company by looking at the key metrics like promoter holding, pledging percetage, debt position, P/E, book value, ROCE etc.
Quarterly Results
Examine recent quarterly performance for trends in revenue, margins, and profits. Look for signs of growth or stagnation over the past few quarters or turnaround signals.
Annual Results
Review annual financials over the past few years to evaluate consistency in growth, profitability, and return ratios.
Peer Comparison
Relative Performance: Compare the company’s financial metrics (e.g., ROCE, EBITDA, and profit margins) against its industry peers.
Market Share and Revenue Growth: Analyze the company’s market share and how its revenue growth rate stacks up against competitors.
Valuation Against Peers: Determine if the company is undervalued or overvalued relative to peers. Evaluate potential for valuation growth if the company achieves higher revenues or profits in line with top-performing competitors.
Financial analysis and financial terms are explained in more detail in this post.
3. Timing/Technical Analysis
Trend Alignment to Dow Theory
Determine if the stock is in a primary uptrend, making higher highs and higher lows and confirm alignment with broader market movements.
Institutional Interest with volume analysis
Track buying and selling activity by institutional investors, as increased interest often signals confidence in the stock’s future performance. The volume trends can indicate recent institutional interest.
Price Near Supports
Filter out stock which are away from support or near resistance levels based on historical price movements to find optimal entry or exit points.
This enhanced stock selection framework provides a comprehensive view of a company’s fundamentals, financial strength, and timing positioning, enabling informed investment decisions and helping to maximize potential returns while managing risk effectively.
